Thu, Jun 12, 2014 - Page 9 News List

Incentives versus meritocracy: inequality and unjust deserts

When discussing inequality, it is perhaps more helpful to stick to considerations of human wellbeing than to refer to questions of meritocratic ideology

By J. Bradford DeLong

The best review of Thomas Piketty’s Capital in the Twenty-First Century that I have read so far is the one published by my friend and frequent co-author, former US secretary of the treasury Lawrence Summers, in Michael Tomasky’s Democracy Journal. Go read the whole thing now.

Still here? You are, you say, unwilling to read 5,000 words? It would be time well spent, I assure you. But if you are still here, I will offer you neither a synopsis nor highlights, but rather a brief expansion of a very small and minor sidelight, an aside in Summers’ review about moral philosophy.

“There is plenty to criticize in existing corporate-governance arrangements,” Summers writes. “I think, however, that those like Piketty who dismiss the idea that productivity has anything to do with compensation should be given a little pause.”

Why?

“The executives who make the most money are not … running public companies” and “pack[ing] their boards with friends,” Summers says.

Instead, they are “chosen by private equity firms to run the companies they control. This is not in any way to ethically justify inordinate compensation — only to raise a question about the economic forces that generate it.”

That last sentence points out that our moral-philosophical discussion of who deserves what has become entangled with the economics of the marginal productivity theory of income distribution in a fundamentally unhelpful way. Suppose that it really is the case that there are decisionmakers who are willing to pay an absolute fortune to hire you in a genuinely arm’s-length transaction, not because you have given them favors in the past or because they expect favors from you in the future.

That, Summers says, does not mean that you “earn” or “deserve” your fortune in any relevant sense.

If you win the lottery — and if the big prize that you receive is there to induce others to overestimate their chances and purchase lottery tickets and so enrich the lottery operator — do you “deserve” your winnings? You are happy to be paid, and the lottery operator is happy to pay you, but the others who purchased lottery tickets are not happy — or, perhaps, would not be happy if their best selves understood what their chances really were and how your winning is finely tuned to mislead them.

Do you have an obligation to spend your post-victory life telling everyone that what they really ought to do is put the money they spend on lottery tickets in an equity-heavy tax-favored retirement account, whereby, rather than paying the house for the privilege of gambling, they are in fact the house, earning 5 percent annually? Are you, like Coleridge’s Ancient Mariner, morally obliged to tell your story to all you come across?

I would say that you certainly are. And I would say that the same applies more generally to those generators of inequality that we economists call “tournaments.”

It appears to be true that tournaments turn out to be good incentive mechanisms: Offer a few big prizes and a lot of people will flock to try their luck. However, given human risk aversion, the only sensible reason to organize a tournament is that it imposes cognitive distortions on the typical entrant. You, the organizer, are harming them — that is, their best and most rational selves — by feeding them distortions; at the very least, you are aiding and abetting their self-harm (for they, like lottery participants, are making a free choice).

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